MARKET PULSE - 12 JAN 2012

MARKET PULSE – 12 JANUARY 2012

Currency market

Rupee rallied sharply from ahead of set sell zone of 52.95-53.10 (low of 52.88) into 51.50 (high of 51.54). The strategy to sell 3M forward dollars on spot weakness into 53.50-54.00 (March 2012 dollars around 54.50) has been good and expected reversal from there into 52-51 has been met ahead of time. Over all, in a short span of time the market has traded end-to-end of 51.50-53.50. While it was not considered safe to stay “long” dollars at 53.50-54.00; it is also not prudent to stay “short” dollars at 51.50-51.00. Market gave good opportunity for exporters to cover 1-3M receivables on move into 53.50 and also allowed importers to cover 1-3 payables on extended spot gains into 51.50. It was prudent to cover March 2012 imports at 52.50-52.25 after having covered March 2012 exports at 54.50-54.75. This accelerated reversal in spot rupee was triggered mainly by two factors: (a) FII flows into debt capital market ahead of January 13 deadline and (b) higher FX premium making forward dollar attractive for export cover; thus setting up the forward market in supply driven mode. What next? FII flows into debt CM will be out of the way and focus will shift to rate cut action from RBI; resultant lower FX premium will cut supplies into the forward market exerting upward pressure on spot USD/INR rate. The current market situation (sudden shift from risk of rupee depreciation beyond 54 into rupee appreciation below 51) will provide great relief to RBI and to trigger (a) purchase of dollars to replenish USD reserves which is down below $300 billion; (b) supply rupees to bring down the system shortfall from over Rs.1.25 Trillion into its comfort level below Rs.50K Crores and (c) prepare for rate cut action ahead of expectations. Despite confirmation of downtrend in inflation and growth; concerns on rupee weakness is causing delay for shift into rate reversal cycle. Confirmation of rupee stability at 51.50-52.50 will facilitate early execution of rate cut actions. For now, let us watch 51.50-52.20 with overshoot limited to 51.20-52.50. It is matter of time before getting the EUR/USD play into USD/INR as momentum is being built for rally in USD Index above immediate resistance at 81.50 for quick move into 83.50 on combination of lower EUR/USD and higher USD/JPY. Strategy for now is to trade end-to-end by buying at 51.50-51.20 and selling at 52.20-52.50 (March 2012 dollars above 53.00 will attract supplies while below 52.00 considered good for importers).

EUR/USD found solid support above 1.2650 (low of 1.2664) for reversal into immediate resistance at 1.2825 (high of 1.2818) but could not sustain there for back into 1.2650. Over all, it has been back-and-forth move within 1.2650-1.2825. Having come off sharply from 1.3075 in quick time; it is in order for bit of consolidation before test/break of 1.2500. For now, let us watch consolidation at 1.2500-1.2800 with bias for move into 1.2500. Let us hold on to “shorts entered at 1.2750-1.2825 (with stop at 1.2850) for profit at 1.2575. In the meanwhile, USD/JPY is boxed at 76.75-77.00. The risk is for test/break of 76.50 for final lap into 76.00-75.50 for sharp reversal from there into 77.75-78.25. Strategy is to sell 77.75-78.25 (with stop above 78.50) and buy at 76.00-75.50 (with stop below 75.25).  

FX premium remained bid with combination of interest and exchange rate play. Lower USD/INR and talk of delay in CRR cut pushed 3M into 7.5% and 12M into 5.5% before close at 7.25% and 5.25% respectively. The market is now trading at higher end of set short term ranges of 6.0-7.5% (3M) and 4.5-5.5% (12M) and there is no reason to look for sustainability beyond the set upper ends. So, it is wise to unwind paid book and prepare to build strategic received book. The reversal in spot USD/INR from 51.50 into 52.50 and signs of shift into rate reversal cycle will turn both interest and exchange rate play in favour of the bears soon. 3M premium around 7.5% is good to fund PCFC loan book through rupee sources (for attractive 3M rupee yield of 11.5%). For now, let us watch 3M at 6.5-7.5% and 12M at 4.75-5.5% with bias for move into lower end. Strategy for now is to stay received in 3M around 7.5% and pay 12M at 4.85-4.60%. It would need lower rupee deposit rates to push 12M premium below 4.5%; 1Y NRE rate at 9.0-9.5% with 12M FX hedge at 5.0-4.5% will accelerate leveraged NRE flows into the system.

Bond/OIS market

It was not a surprise to see sharp reversal in 10Y yield from 8.14% into 8.28%; thus trading end-to-end of set near term range of 8.10-8.35%. Given the lack of clarity on RBI’s monetary actions; investor appetite will be low on extended gains below 8.20%. We continue to look for consolidation at 8.10-8.35% with test/break either-way not expected to sustain. The risk of test/break of higher end into 8.5% is valid on uncertainty over additional bond supplies by RBI on slippage in fiscal deficit (fiscal deficit of over 5.5% of GDP will set up bearish undertone in the market). Strategic investors who have unwound investments entered at 8.75-9.0% on this run into 8.15% can afford to reinstate at 8.35-8.50%. The delay in rate cut action from RBI will be bearish as 0.5-1.0% cut in CRR (without rate cut) will not trigger downward shift in the rate/yield curve. For now, let us continue to watch consolidation at 8.20-8.30% with overshoot limited to 8.15-8.35%. At this stage, it is not prudent to chase gains into 8.20-8.15% and it is desirable to cut duration by shift of long end bonds into 1Y T-bills currently yielding around 8.20%.

OIS rates rose sharply on fear of overnight MIBOR staying at elevated levels above 8.5% for extended period of time. 1Y rate was up from 7.69% to 7.90% (close at 7.86%) and 5Y rate was up from 7.02% to 7.22% (close at 7.16%). Over all, the expected bounce from strong support levels of 7.65% (1Y) and 6.85% (5Y) into 7.85% and 7.15% respectively is complete. What next? It is possible that market has shifted into higher range of 7.75-8.0% in 1Y and 7.05-7.30% in 5Y. It would need minimum 0.5% rate cut to get the focus back into 7.65% (1Y) and 7.05%; till then bias will be for gradual move into higher end. Strategic players can look to absorb rally into 7.90-8.0% (1Y) and 7.20-7.30% (5Y). For now, let us watch consolidation at 7.75-7.90% (1Y) and 7.10-7.20% (5Y) with test/break either-way to attract.

Commodity market

Gold is in bullish undertone within immediate support at 1605 and resistance at 1645; posted low of 1604 and high of 1647 before stability around 1635-1645. The tone continues to stay bullish for extended gains into 1670 before preparation for sharp reversal into 1605/1560/1525. Strategy is to try small “shorts” below 1670 with tight stop. On the other side 1610-1590 expected to stay firm to retain near term bullish undertone. In the meanwhile, NYMEX crude traded end-to-end of set 100-103 range to post a sharp rally from 100.10 to 103.41 before down for consolidation around 101. NYMEX crude is looking heavy at 103-104 but mild bullish undertone is expected to provide support at 98.50. Over all, we prefer consolidation at 98.50-103.50 with test/break either-way to provide directional guidance. The bias is neutral at this stage; hence let us continue to play end-to-end of this range.

NIFTY

NIFTY posted a strong rally from below 4700 (low of 4695) into 4900 (high of 4877) before close at 4860; close above strong resistance at 4850 is positive at this stage. We had set three entry levels for strategic investors at 4550/4400/4250 for reversal from there into 5150-5250. Since then, NIFTY has rallied from low of 4531 and looks good for extension into 5000/5150. Reversal in rupee sentiment (from bearish to neutral) will facilitate shift of RBI’s monetary stance from anti-inflation to pro-growth ahead of expectation. While domestic forces have turned neutral for stock market; external cues continue to stay uncertain and mixed. Taking all these together, we may need to shift near term range play at 4650-5150 with test/break either-way not expected to sustain. For now, let us watch consolidation at 4700-5000 and stay neutral on directional break-out.

Moses Harding